Through the P/E looking glass

Price Earning Ratio

Price Earning Ratio

• P/E is a measuring parameter or a benchmark tool used to decide whether any stock is investment worthy

• The Price to Earnings multiple (popularly termed as the ‘P/E’) is academically read as ‘market price per share divided by the EPS (i.e. the Earnings Per Share)

• It indicates the value that the market is willing to pay for the potential of growth embedded in a stock with respect to the company’s earnings and denotes the premium offered by the market to value the company

What are the benefits of P/E ratio?

What are the benefits of P/E ratio?

• Primarily, the P/E helps you to understand if a particular company is over-priced or under-priced vis-à-vis its peers

• A stock with a lower P/E vis-à-vis its industry P/E is considered ‘undervalued’

• A stock with a higher P/E vis-à-vis its industry P/E indicates that it is more popular and has better and sustainable earnings growth potential vis-à-vis the others

How do you calculate P/E?

How do you calculate P/E?

• There are two methods of calculating the P/E. This is because you can either use the Trailing Twelve Month (TTM) EPS or you can consider the Future Twelve Month EPS

• For example :if the current market price of Company X is Rs 150 and its TTM EPS is Rs 6, its P/E will be 25 (Rs 150/ Rs 6). For the same company, if the future twelve month EPS is Rs 8, the forward P/E will be 18.75

What is the difference between

TTM EPS and 12 month EPS?

What is the difference between TTM EPS and 12 month EPS?

• It is advisable to use the TTM EPS as it is based on past data and provides more certainty against using the future 12 month EPS since it just provides earnings visibility

• However, in case the company is an emerging company positioned in a high growth industry and having robust expansion plans over the future years, using the future twelve month EPS is more advisable

Remember: It is not necessary that stocks with a lower P/E is always undervalued and stocks commanding higher P/E are

the best stocks